Dyson: The sustainable agenda is what’s going to force our thinking to change over the foreseeable future. I think we will get to a point quite quickly, where we won’t be talking about sustainable funds, but those funds that aren’t. Securities lending and ESG: it’s a bit of a mixed bag, in many ways. There is a school of thought that suggests that security lending doesn’t work as well as it should do in the context of a sustainable agenda. Now, I wouldn’t agree with that. But to get our clients where they need to be, I think there’s a couple of intersection points that we as an industry are working on.

The first one, of course, is voting. We are in a world of active shareholder engagement and the encouragement of shareholders to play a bigger role in the companies they invest in. Obviously, securities lending is such that if you lend a security, it goes out and typically the vote goes with it. We’ve published best practice in that regard to help people understand what they should and shouldn’t do, and other areas we’re working on because we see that intersection already is collateral.

There’s a big debate as to the role of collateral from an ESG perspective. Some people argue it should be an exact mirror image of the type of securities that are in the fund. I don’t see that as either being practical or prudent because the danger is if you just have back what you’ve lent, in a different guise. You’re increasing your risk in your collateral pool. We shouldn’t forget that collateral is there not for fitness or ESG purposes, it’s there to mitigate loss if there’s an event. We’re beginning to see what I would call counterparty screening at the highest level. Firms are looking at each other going: we’re not going to trade with you because you finance coal stocks. And that will trickle down into our market soon, if not already. Because the already complex dynamics about lending, which include counterparty selection, could be about to get a lot more complicated, because your client might say: I can’t lend to that borrower, because we don’t like their position on coal stocks.

Now, I don’t know if you’re seeing that already. But if not, that’s coming.

Daswani: You just touched on the new terminology of green screening. But what’s your views on green washing, from the association point of view? Dyson: We need to be very mindful. There is a suggestion that you can use the collateral dynamics as part of a green washing strategy. Personally, I’m not buying that one. The market has many techniques that will call out inappropriate activity. The most important one is the short sellers, because they’re the people that called Wirecard before anybody else did, and they were pushed back in a box constantly by the regulators. And surprise, surprise, the guys that shorted it were right. We must let them loose on ESG scrutiny as well.

Kiely: And pretty much all the big fail events of the past 10 years have been called out by the short sellers before anyone else, so I think they will start to expose this. But surely there will be a form of equilibrium at some stage. I’m not saying we should do nothing and as an industry, do we want to lead the likes of Ernst and Matt? Do we want to lead you towards ESG solutions, or do we want to be forced there? For me, the biggest issue is collateral, because that’s the thorniest thing, the most difficult thing to solve. But there will be an element of self-solving about this, because the greater the bad press or negative opinion for certain assets, the less liquidity there will be in those assets. And the less liquid they are, the less we take as collateral.

Davis: Today beneficial owners continue to introduce restrictive collateral sets and are restricting specific assets due to ESG. As it stands currently, ESG remains a priority within a beneficial owners lending programme.

Aasly: I totally agree. It’s been a pressing issue for years with ESG funds. It’s ESG first, revenue second. The easiest solution is just to stop lending. It’s just a nuisance. Now with new regulation on top of it, there’s even more reasons to me to say this. The work done with ISLA, and before that GPSL, and having a set of rules that you can stick to is Alpha and Omega. Suddenly you can say: look, I’m following the best practice and it has taken these things into account, it might maybe at some stage get some sort of green label on it. All of a sudden, you can prove that you’re doing the right thing. That’s really the key. And if your agent lender also supports all these initiatives, you can start moving on and regain a lot of those funds that that you lost in the ESG battle.

Chessum: From a securities lending perspective, ESG is no different to any other lending mandate, it needs to follow the investment strategy of the fund, no matter what that is. ESG is just another iteration of that. You have to adhere to the spirit of the actual investment mandate, because otherwise, you’re not doing what your investors are paying for. And ESG is just that in a slightly different guise, there is a great deal of reputational risk around greenwashing however and you have to be very careful in terms of the operations that you’re carrying out on behalf of your underlying investors.

Kiely: I’ve had RFPs recently and a couple of clients asked me if they can recall everything when there’s a vote. Now, if you’re earning a significant return for your pensioners, your investors through lending an asset, is it worth jeopardising that just to ratify something benign at an AGM? I don’t think so. But if there’s something contentious being voted on, then obviously, you should be doing the right thing. I think it means there needs to be a lot more nuance around these events.

Singh: If you’re a beneficial owner, and you’re going to take a position on a given day, I think you’d be tracking that well before your agent lender should be calling it back. I don’t think you can outsource that activity. You’re leading the charge on this by a country mile, if I may say so. As a result, we’re sitting here today at an EU roundtable, I think we have to be cognizant of that. It is still, however, a global industry. To your point about transition, I think there has to be some bridge to that. I think there’s going to be such standardisation in the collateral market. I mean, triparty is going to play a major role, rating agencies will come up just like we’ve heard for credit rating, you’re going to have sustainability ratings, environmental ratings. But I think that we can all work towards this and I think the industry will coalesce around solutions. I think it’s the kind of front end which we are talking about the voting, that stuff is a little bit more unique to each underlying beneficial owner.

Dyson: I’ve talked to regulators about this. They need to think about what they want this market to look like. Because if you want this market to be deeply liquid and attractive to retail investors, you’ve got to encourage people to participate in things like securities lending, to provide that liquidity that underpins the markets. And at the moment, they’re remaining sort of silent on many issues. But the simple fact is that we need ESG funds to be lending to create the liquidity that people need to see.

In terms of voting and the comment about recalling, I think it says in our best practice: we wouldn’t necessarily say that you need to do that all the time, because you don’t. Each client needs to figure out what are their dynamics and then work with you, their provider to come up with a solution that works for them.

Dolce: I think education has a part to play here. For example, where we onboard funds, the way that we look at it is like we give the analysis without any ESG filter. We say: this is the maximum revenue, based on the current market conditions that you can realise. Now, let's introduce the possibility to recall all assets in order to exercise the voting right of the funds, this is the new level of return that could be generated. Let’s add ESG constraints on the collateral now, this is the new level of return that could be generated. And after that we have an open conversation with the clients, asking them what they want. It’s very clear that you will have clients that will want to exercise their voting (on systematic basis or on discretionary basis). My personal opinion is you need to allow the clients to vote, it’s a no-brainer. On the collateral part, I agree with you Andrew that it’s there to protect the fund and should not have this type of high correlation with all the assets available in the funds.

Kiely: We’re responsible for the education here because there are still too many participants that see securities lending as some form of asset swap. You can’t say: I’m lending stock in an electronic carmaker and I’m taking stock in a coal fired power station as collateral, and therefore, that’s a bad thing to do.

Daswani: I read many ESG papers before coming to this. And there was one sentence which summarised everything quite nicely. I read it in an RMA paper about securities lending programmes. It said that these programmes should not be viewed as ESG compliant, but they should allow investors to achieve their sustainability objectives. I think that summarises how we should be operating our securities lending programmes. We’re not trying to make our programmes compliant, we will work with clients to fit in what their objectives are into our plans. That summarises for me very beautifully how ESG should fit in, in the securities finance world.

Chessum: I agree. How many asset owners lend in emerging markets and how many asset owners lend government bonds and get corporate bonds back or in emerging markets, they take main index developed market equities as collateral back. Lending on ESG funds is no different. You wouldn’t take like-for-like, necessarily, but I do think it’s important to give it some extra consideration in terms of the types of assets that you are going to be receiving just in case, any of your underlying investors did want to have a look through as to how their fund was transacting. And they should be aware that if you are taking on non ESG assets as collateral that that is taking place. I think that’s where the legislation will probably end up. There’ll have to be some sort of language in prospectuses outlining for article eight and nine funds, how they collateralise their assets or any lending transactions.